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Carbon price in a long-term, normative perspective

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This paper describes the use of an integrated assessment model to derive a (shadow) carbon price for government policymaking, including the current status of the SCCO2, ways that governments should periodically revise the SCCO2, potential improvements to the SCCO2 to encompass impacts by sectors, and the potential diffusion of standard SCCO2-type measures around the world.
Session 000110 - What role of carbon pricing (A Creti).

“Carbon pricing in the United States: Markets and prices in the new national and international regimes”

J. Wiener (Duke University, Durham, United States of America)

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“Carbon pricing in the United States: Markets and prices in the new national and international regimes”

J. Wiener (1) (1) Duke University, Nicholas School of the Environment, Durham, United States of America

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This presentation will be part of Session 000110 - "What role of carbon pricing" (A Creti), which will itself be part of the Topic on "Emissions Trading" as a form of "Collective Action toward Transformative Solutions," featuring several related presentations on the evolving carbon markets in Europe, the United States, and elsewhere, as they build toward an effective and efficient new international regime.
This presentation will focus on the United States and Canada. First, it will assess the development of sub-national carbon markets among key US member states, including the "RGGI" emissions trading program among northeastern states and the California emissions trading program, and the links from some of these sub-national programs to carbon markets in other jurisdictions such as Quebec and Ontario, Canada. Second, the presentation will explain the new national program ("Clean Power Plan") being advanced by the US Environmental Protection Agency (EPA) under the US Clean Air Act, section 111(d), including its current status (scheduled to be issued in final form during the summer of 2015), its legal basis, its economic efficiency, and the legal and policy challenges it may face. Third, the presentation will discuss how these North American carbon markets -- especially the EPA 111(d) national "Clean Power Plan" -- may contribute to action at the international level, including the Intended Nationally Determined Contribution (INDC) of the United States, along with other countries' INDCs to be presented at COP 21 in Paris in December 2015. It will discuss the potential for linking the evolving carbon markets in the US to those in Europe, China, and others, and it will consider the role of these developing carbon markets in the longer-term evolution of an effective and efficient international climate change regime. Fourth, the presentation will address the development of a carbon price for government policymaking through the US government's "Social Cost of Carbon" (SCC) measure, including the current status of the SCC, ways that governments should periodically revise the SCC, potential improvements to the SCC to encompass a broader array of impacts, and potential diffusion of SCC-type measures around the world.
This presentation will draw on the author's prior work in publications such as IPCC 2014, 5th Assessment Report, Working Group III, chapter on "International Cooperation" (of which J.B. Wiener was a co-author); W.A. Pizer et al., "Using and Improving the Social Cost of Carbon," in Science (5 December 2014) (J.B. Wiener is a co-author); J. B. Wiener, "Property and Prices to Protect the Planet," in Duke Journal of Comparative & International Law (2009); R.B. Stewart & J.B. Wiener, Reconstructing Climate Policy (2003); J.B. Wiener, "Global Environmental Regulation," in Yale Law Journal (1999); and the author's experience helping to negotiate the UN Framework Convention on Climate Change (FCCC) in 1989-92.
This presentation will be part of Session 000110 - "What role of carbon pricing" (A Creti).

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This paper summarises the main economic reasons why carbon prices are likely to, and should, differ between regions, and key factors that would affect the optimal trajectory over time in ways that diverge from a simple formulation based on an estimated social cost of carbon. We illustrate the generic discussion of some issues in space and time variance of carbon pricing with reference to key earlier works respectively on international welfare dimensions of carbon pricing, and the results of models with different dynamic specifications.

It is widely assumed in economic studies that the optimal approach to carbon pricing is a single global carbon price, reflecting the ‘social cost of carbon’, which should rise over time to reflect the assume cost or constraint. We first detail the assumptions under which this would be true and show these to be highly restrictive (and indeed implausible), which is one of the reasons why nothing like this is observed in practice. At the same time, industrial expectations of long-run carbon price trajectory are crucial to efficient investment, so developing a common understanding of desirable contours of carbon pricing over space and time is central.

Reasons why a common global carbon price is not welfare-efficient include those articulated by Chichilnisky and Heal in the 1990s, with reference to international inequalities; we add some specific real-world illustrations. We then analyse reasons why even in an equal world, factors of expectations, inertia, uncertainty and evolutionary economic considerations (including the combination of innovation and infrastructure in different sectors) may all create reasons why the locally optimal carbon price may be larger than the estimated SCC, illustrating with respect to varied published models with different dynamics specifications.

We build upon this work in three ways. First, conceptually, we link some of the existing modelling literature to the framework of different domains of economics processes in Grubb, Hourcade and Neuhoff (2014), notably the Second and Third domain processes of markets and innovation respectively, and highlight implications in terms of the relationship between these economic processes and corresponding policies. Second, we present results from a simplified model which to illustrate some aggregate influences and potential magnitudes of these effects, comparing results from other aggregate global models.

Finally, we discuss how interactions between the various factors should inform understanding of the desirable “contours” of carbon price development over space and time. In particular we illustrate some implications for the debate on linking emissions trading systems, in terms of the need for exchange rate mechanisms which can help to both support equitable development of investment and returns, and help to foster the processes of regional transformations.

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First, we analyze empirically the drivers of the carbon price between 2008 and 2013 in the world's largest cap-and-trade system – the EU ETS. We provide evidence that the market fundamentals such as the economic crisis, the development of renewables and the use of international credits explain only a small share of price variation during the period.

Secondly, we investigate how and to what extent allowance prices respond to regulatory news. Capitalizing on an event study method that incorporates a highly flexible econometric technique, we isolate and quantify the news-implied price response to 28 hand-collected announcements about the time profile of EU ETS supply schedules that took place between 2008 and 2014. The induced price reaction gives an instantaneous feedback onhow market participants view the evolution of cap stringency in the light of a particular policy announcement. Our findings suggest a high responsiveness of the cap-and-trade market to political events. We provide strong evidence that the backloading decision process caused substantial pricedeclines. The event-induced negative drifts evolve gradually as market participant's faith in the political support for backloading is shaken in the light of severe decisional bottlenecks in the lengthy legislativeprocess. In addition, we document positive price reactions to the announcement of the 2020 and 2030 policy packages, while news related to the 2050 roadmap either did not affect allowance prices orinduced negative price drifts. These results point to an underappreciated feature of cap-and-tradeprograms: with temporarily non-binding periodic cap, market perceptions will dominate priceformation. If a relaxation of cap schedules in the future is expected, the current allowance price drops significantly, irrespective of whether the contemplated change actually happens.

Thirdly and following our findings, regulatory instruments to stabilize expectations in the market and induce sufficient investment in low-carbon technologies are compared. This includes both price and quantity adjustment mechanisms as well as institutional reform such as delegation to an independent carbon central bank.

Intended contribution to session 000110 - What role of carbon pricing (A Creti)

Extending carbon pricing with the expansion of the ETS scope: the road transport sector moving towards the EU ETS?

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One of the central debates surrounding the design of Emissions Trading Scheme is the question of its sectorial scope and its potential progressive expansion. In the context of the increasing development of emissions trading schemes all around the world beyond 2015, sharing the experience of implemented emissions trading schemes could be useful for other governments which should involve or would like to be involved in the implementation of this carbon policy.

In Europe, the Emissions Trading Scheme (EU ETS) covers energy and industry sectors. However, Since 2005, there have been several extensions of the EU ETS: new states, sector (domestic aviation) and gases. In the context of the EU ETS reform and in its first report on the EU ETS functioning in November 2012, the European Commissions suggested to constraint energy related CO2 emissions in sectors currently outside the EU ETS by for instance including fuel consumption in other sectors. In the 2030 Energy and Climate framework, the European Commission introduced namely the potential avenue beyond 2020 to introduce new sectors in the coverage such as road transport or buildings sectors. Beyond the overall revision of the EU ETS directive, the road transport sector can be included in the EU ETS via the opt-in provision which gives Member States the option of introducing, voluntarily and unilaterally, new GHG or new sectors. Denmark is the first European State to express, in September 2014, its wish to include the road transport sector in its national Emissions Trading scheme (ETS) target.

Based on this policy context, the paper deals with the introduction of the road transport in the EU ETS. In a first section, the paper examines the future trends of CO2 emissions from road transport in Europe by 2030 by modeling technology deployment in passenger and heavy duty car parks in two main regions in Europe (EU15 and EU13).

In a second section, the paper investigates what lessons could be drawn for the European Union from the experience of others ETS. Since the implementation of the EU ETS in 2005, other emissions trading schemes have been developed but only a small number include or envisage including road transport within their scope. The New Zealand includes the road transport in 2008 and California and Quebec’s emissions trading schemes cover transport fuels suppliers and importers since 2015. The analysis reveals two main design lessons: in all cases, the emission trading scheme is a complementary measure adding to other sectorial policies and credit offsets play a key role to mitigate compliance costs.

Then, the third section analyses what would be institutional and economic impacts of the introduction of the European road transport in the EU ETS. Based on modeling results from three different general equilibrium models, the paper reveals that the EU road transport sector is not likely to be included in the EU ETS by 2030. First, we conclude that the new burden sharing after the road transport inclusion would be supported mainly by the power sector. Secondly, the CO2 price would increase sharply revealing higher compliance costs without the potential opportunity to use offsets credits. Thirdly, the new higher carbon price with the road transport in the EU ETS would be too low to trigger structural changes in the sector towards the deployment of low-carbon technologies or behaviors.

Linked domestic CDM: A proposed climate architecture

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Linked domestic CDM: A proposed climate architecture

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Three dominant issues have historically plagued climate negotiations: how to bypass issues of sovereignty, generate sufficient climate finance, and establish an agreement that is inclusive of the current major polluters. Despite the highly contested nature of the Clean Development Mechanism (CDM) under the Kyoto Protocol, it provides policy makers with a starting point for the formation of new climate policy architecture. This research proposes the integration of CDM, as hosted by each state and therefore under their jurisdiction, into a linked climate policy architecture. A linked domestic CDM system would allow for Certifiable Emission Reductions to be earned through the implementation of domestic projects or projects hosted in other states. These Certifiable Emission Reductions can act as a unique climate currency for each state. This research questions how a linked domestic CDM system would be structured in a climate finance context, specifically analysing how Certifiable Emission Reductions would operate and interact as a climate currency. From this research, we conclude that fixed exchange rates are more stable than flexible exchange rates in a climate currency framework. Fixed Exchange Rates reduce losses of capital (owing to uncertainty in the markets) and the prominence of asymmetric spatial price transmission associated with fiat Certifiable Emission Reductions prices. To encourage co-operation between developing and developed countries, it is recommended that a combination of currency area theory and trade blocs be implemented as opposed to a currency union. Currency areas are the most viable option as they maintain that the CDM is under the control of the state and retains a level of stability as individual state Certifiable Emission Reductions prices are fixed to the same price. Even though this research forms the basis for a new climate policy architecture, the overall effectiveness of the policy will be determined by the selection of appropriate discount schemes, increased participation and agreement by states, and most significantly, political will.

Linking Up Emissions Trading Schemes: Lessons, Risks and Challenges

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This presentation will come after contributions about design and functioning issues of carbon markets in Europe, the U.S. and China.

Following these presentations, it’s appear clearly that the fragmentation of carbon markets in the world is reflected by the wide range of regional designs, among which discrepancies regarding flexibility rules and dynamic price management mechanisms are particularly salient.

Although on the face of it inter-ETS linkage looks appealing, impediments to linking could arise from these discrepancies. This raises the twofold issue of whether to engage in linkage given the risks and challenges involved; and of how to link up ETSs given such discrepancies and how these could be overcome by gradual alignment.

Regarding the why-link side of the question, much can be gained by flipping it upside down and rather addressing the potential sacrifice from not linking. We identify determinants and key convening features of past linkages and investigate the question of how to make linkage more attractive and induce further cooperation.

On the how-to-link side of the question, we discuss what we identify as impediments to linkage and how these can be remedied. Such relative concepts as linkability or compatibility are discussed in light of a comparative analysis of schemes’ design features (whom would it be better/easier to link with). Different linking path scenarios are then reviewed, namely case-by-case or bilateral regulation, definition of model rules for regional partnership, globally networked ETS, etc.

This discussion draws on current experience, that is determinants of observed linkage agreements.